Many Singaporean investors use Australian commodity plays as a good way to gain exposure to the China market.
Fortescue Metals, a major iron ore miner, added 480% on the back of China’s demand for steel. Other companies like A2 Milk allow investors to ride the China recovery at arm’s length by taking investment positions in Australia’s well-regulated market where the transfer of capital and profits is safe and secure.
The thaw in Australia-China relations has prompted many Singaporean investors to re-evaluate their China-related Australian exposure to listed agricultural, commodity and service companies that stand to benefit from a revival in trade.
The confirmation of Australia’s purchase of nuclear power submarines from the US and the UK has the potential to throw a spanner into this strategy and it is appropriate to reconsider this investment strategy in the light of possible responses from China.
The immediate Chinese response is relatively muted. The reaction has been much as expected with standard comments about increasing regional instability. These are the same comments China usually directs at the Aukus arrangements. However, the investment horizon is longer and this longer-term impact needs to be examined in light of what actions China may take.
The submarine announcement reshapes Australia’s engagement with the region and China. This clear statement of intent means that China must also re-examine its trade and policy relationship with Australia. As Australia’s largest trading partner, this has serious implications for Australia and for investors using Australian companies as a means of investing in Chinese growth.
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Australia seems to be unaware that China will need to reshape its policy responses to Australia and the longterm relationship. In part, this smugness rests on Australia’s belief that China’s need for steel rests on Australian resources. It is a smugness that allows Australia to believe it can attack China with impunity because they believe there are no substitutes for Australian commodities.
The massive Simandou iron ore deposit in Guinea is capable of replacing Australian sources. It offers significant developmental challenges, but China has a history of successfully meeting these types of challenges. The growth of high-speed rail infrastructure in China is an example of this developmental capability. China will accelerate the development of Simandou and this will impact investment in Australian iron ore companies.
During the freeze on sections of Australian trade with China, it was clearly shown that China could easily substitute Australian commodity exports with imports from other countries. This reality undermined the idea that these Australian commodities, from barley to meat and cotton, were somehow indispensable to China.
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Although these commodity areas are coming back online and bringing with them an attractive investment strategy of third-party access to China’s growth, the recent past has shown these areas are not indispensable or irreplaceable.
The confirmation of submarine purchases and the way this binds Australia irrevocably to US-China policy make the Australia-China investment strategy less attractive.
Technical outlook of the Shanghai Composite Index
The Shanghai index activity has moved back to within the sideways trading band. The key question for traders and investors is this: Is this a consolidation prior to a resumption of the uptrend or is it a pause before a collapse below support?
The index activity suggests a consolidation prior to an uptrend resumption. First, the long-term group of averages in the Guppy Multiple Moving Average (GMMA) indicators have absorbed the selling. There is a very small degree of compression and this suggests that investors are using the index retreat as a buying opportunity.
Second, the support level near 3,220 has been tested several times and acted as a rebound area. This support level is also a previous resistance level, so this suggests it has a strong influence in the market. When support holds, it suggests we are seeing consolidation rather than a trend change.
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Third, the short-term GMMA has compressed but it has not crossed into the value of the long-term GMMA. This is not conclusive evidence, but it suggests that the index selloffs are temporary rather than predictive. Traders have collected profits from the breakout above resistance near 3,280. Now, we look for the short-term GMMA to bounce off the upper edge of the longterm GMMA. If the short-term GMMA penetrates the long-term GMMA, then the outlook becomes more bearish.
The fourth feature is the long-term trading consolidation band. The lower edge is near 3,220. The upper edge is near 3,280. A return to trading within this trading band is still bullish for the continuation of the longer-term uptrend because it provides a consolidation base for the trend breakout. As a general rule, when trends reverse from an uptrend to a new downtrend, they do this suddenly. This trend reversal is not usually preceded by market consolidation.
It is also important to note that the old uptrend line will now act as a resistance level. This will limit the extent of any breakout above resistance near 3,280. In this sense, a longer period of consolidation delivers a better breakout opportunity with higher upside targets.
The fifth feature is the fan pattern (not shown on the chart). This pattern signals a long-term trend change. The sixth feature is the double-bottom pattern (also not shown on this chart). The depth of the double-bottom pattern is measured and then the value is projected upwards to give a very long-term target of around 3,860.
The combination of these features and the longer-term bullish chart patterns suggest that the longer-term uptrend in the Shanghai Index remains intact following a period of consolidation.
Daryl Guppy is an international financial technical analysis expert. He has provided weekly Shanghai Index analysis for Mainland Chinese media for two decades. Guppy appears regularly on CNBC Asia and is known as the Chart Man. He is a former national board member of the Australia-China Business Council. The writer owns China stock and index ETFs
